IMF Supports Income Tax

IMF Team Leader

At the end of a successful visit to Vanuatu, a team of economists from the International Monetary Fund has reiterated the IMF’s endorsement of a personal and corporate income tax for Vanuatu.

“The government should complete its tax reforms,” said IMF team leader Dirk Muir, “to buttress its revenue base, reduce pressure on its debt, and allow it to continue to build buffers against potential natural disasters.”

During the question and answer session following the prepared statement, he was asked to elaborate. “It’s about securing a broader base for all taxation sources,” he said. “It’s about adding diversity to the sources [of tax revenue], and a general increase that would be long-lasting.”

“We understand that on impact, there may be some negative short-term costs in the switch over in the tax regime, but the economy, relatively speaking, is doing fairly well, and there are buffers within the economy that that do a better job of accommodating that sort of switch now as opposed to a point where you’ve run out of buffers.”

He later added that any new income tax should be part of a larger reform, in which other taxes and levies would be reduced.

The visit is part of a regular series of economic assessments, mandated for every member of the Fund. The IMF website explains, “When a country joins the IMF, it agrees to subject its economic and financial policies to the scrutiny of the international community.”

Lower down, the page reads, “During an Article IV consultation, an IMF team of economists visits a country to assess economic and financial developments and discuss the country’s economic and financial policies with government and central bank officials. IMF staff missions also often meet with parliamentarians and representatives of business, labour unions, and civil society.”

This year, the team found that the economic situation was mostly okay, with moderate inflation of less than 3%, and GDP growth of about 3.6%. The brief jump in inflation was caused by the rise in the VAT rate, but it’s expected to remain low, due mostly to responsible fiscal management and low inflation rates among our primary trading partners.

Mr Muir told attendees at the Tuesday event, “The current account temporarily shifted to a surplus of 3.5% of GDP in 2018, driven by significant growth in the economic citizenship programme revenues and remittances from seasonal worker programmes.”

The team expects the current account to revert to a deficit of 2.3% of GDP in 2019. That deficit is expected to rise over 5% in the medium term, he said. A large part of that will be due to airplane acquisitions by Air Vanuatu. This should be offset by increased tourism revenues, he added.

Vanuatu’s graduation next year from Least Developed Country status is not expected to affect our economic growth trajectory, said Mr Muir.

Asked about after the press conference, he explained that most of the concessional and grant financing that Vanuatu receives is based on bilateral relationships that recognise our unique development needs and debt sustainability. Multilateral lenders, he added, offer concessional terms based on the recipient’s ability to repay, not its formal development status.

The area where the loss of LDC status affects us most is in trade. LDCs get preferential access to certain markets.

The IMF team cited a recent trade agreement with New Caledonia as an example of ways the government could mitigate these upcoming changes.

Recent data indicates that Vanuatu has trade deficits with nearly every single trade partner.

During oral remarks at the end of the visit, the team leader indicated that the growth outlook was moderate, but that the country had for the most part emerged from the economic hole caused by the cyclone Pam in 2015.

Some infrastructure is still underway, but most of the rebuilding is done, he said.

Now, projects delayed by the disaster can get underway. He suggested this would provide an impetus that would keep the economic wheels turning.

“More rapid accumulation of government debt, with increased interest payments crowding out other government spending, is the main domestic downside risk,” Mr Muir said.

VAT revenues grew by 9.5% overall from 2017 to 2018. Given a 20% increase in the tax rate, an increase somewhere between 12% and 15%. That suggests that commercial activity was lower in 2018 than in 2017.

Asked to explain how that fit with the IMF projection of moderate economic growth, Mr Muir explained that the areas of the economy that grew most were not subject to VAT. This includes some foreign investment activity and government infrastructure projects.

“Plus there’s some upward pressure on exports as well, so there’s a fairly broad base for growth at this stage,” Mr Muir added.

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